Malaysia’s troubled 2015

As one of the seeming powerhouses of the ASEAN economy, Malaysia could be entering a tough 2015.

The recent collapse in the price of  crude oil – down 40% to recession levels – and the recent strength of the USD stemming from increasing economic strength in the US economy and weakness in the European economy are now hitting emerging market economies in both positive and negative ways.

Emerging Asia, however, has proved relatively resilient to this change in sentiment, partly because investors have been much more bullish on the region compared with eastern Europe and Latin America but also because Asia’s main economies are typically  net oil importers and thus benefit from the fall in oil prices to varying degrees.

Yet one country in the region is much more vulnerable than most: Malaysia.

Not only is Southeast Asia’s third-largest economy a net oil exporter, it also happens to have one of the largest shares of foreign holdings of local currency bonds in EMs (into 2014 over 50% of Government bonds were held by Foreigners), making it more sensitive to an increase in US Treasury yields.

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Malaysia is also experiencing an oil-driven deterioration in its economy- with Government receipts dropping.

With the proceeds from oil and gas exports accounting for nearly a third of government revenues, Malaysia’s public finances are coming under severe strain, and the Government revenue even more dependent on next April’s introduction of a goods and services tax to broaden the tax base.

Malaysia’s balance of payments position, moreover, is set to worsen significantly as a result of the fall in oil prices and no reduction in imports (yet). The countries current account surplus already declining dramatically in Oct 14 and expected to shrink further next year if oil prices keep falling.

Another concern is the extremely high share of foreign ownership of Malaysia’s domestic bonds at a time when markets are becoming more volatile and the US Federal Reserve is likely to start increasing interest rates in the middle of next year. Despite the recent outflows from Malaysia’s bond market, foreign holdings still account for 45% of the market – an even higher ratio than the 38% share in Indonesia, 18% in Thailand, 20% in Brazil and 26% in Turkey, according to Bank of America Merrill Lynch. This outflow will not only weaken the Malaysian economy but also weaken the MYR.

Malaysian Bank RHB has echoed these thoughts post Malaysian budget by Peck Boon Soon, Head of Economics, RHB Research Institute

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Still, the good news is that Malaysia’s local institutional investors, such as its government-controlled pension funds, can be relied on to buy this Government debt as foreign investors reduce their holdings in 2015. But they still can’t halt the potential for exchange rate decline.

Its becoming an interesting time to actively manage your investments in Malaysia or if you are bullish long-term, consider investing when the MYR is low and the economy in trouble.